fannie mae multi family housing
DESCRIPTION
investment planTRANSCRIPT
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FANNIE MAES ROLE IN THESMALL MULTIFAMILY LOAN MARKET
FIRST QUARTE R 20
EXECUTIVE SUMMARY
State of the Small Multifamily Loan Market
In the wake of the U.S. housing crisis, multifamily rental housing especially
affordable rentals is expected to play an increasingly important role in the
market due to stronger residential mortgage lending standards, more modest
consumer aspirations for homeownership, growth in households that tend to
rent (e.g., Echo Boomers, retiring Baby Boomers, and New Americans), and other
drivers. Within the rental housing market, loans to smaller rental properties
which Fannie Mae defines as loans of $3 million or less in most markets and $5
million or less in high-cost markets play a unique role.
As of June 30, 2010, the companys $34 billion book of smaller rental properties
tend to be more affordable, a key source of housing for working families, and
concentrated in urban areas in close proximity to transportation and jobs
lowering the cost of living there.
TABLE OF CONTE N
1 Executive Summary
3 Fannie Mae & Small MultifamiLoans
20 Small Loan Profitability
22 Fannie Mae Has A Relevant,Focused Role In Small Loans
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Financing a ready supply of smaller multifamily rental
properties poses unique challenges, however. The lending
market is fragmented, with more than 2,600 lenders
originating an average of six small loans each1, which
impedes standardization, efficiency, and the benefits of
securitization (e.g., greater and lower-cost funding). Smaller
property financing also tends to rely on a disparate range
of borrowers, often individual investors, entrepreneurs, or
smaller commercial businesses of varying credit profiles that
invest in a limited number of properties and operate them on
a thin margin with fixed costs but potentially higher income
fluctuation risk. The disparate nature of small multifamily
property borrowers also creates financial, underwriting, and
credit issues for national investors in the loans, which limits the
supply of low-cost liquidity for these loans.
In short, while smaller multifamily properties provide
an important supply of affordable rental housing, the
1 Source: 2009 Mortgage Bankers Association data.
fragmentation and non-standardization of financing
complicates a national solution to expanding this housing.
Fannie Maes Role in the Multifamily Market
Fannie Mae plays a critical role in the U.S. rental housing
market. Our original charter in 1938 provided authority to
facilitate the construction and financing of economically
sound rental housing projects. In 1984, Fannie Mae created
a business division dedicated to purchasing multifamily
loans. Since that time, Fannie Mae has continued to provide
a consistent supply of funding to the multifamily market
through all market cycles.
Currently, amid a shortage of private investment capital and
credit for housing finance, Fannie Mae provides more than
percent of all secondary market funds available for multifam
housing finance. As of June 30, 2010, the companys $185
billion book of roughly 42,000 multifamily loans is perform
significantly better than the commercial mortgage-backed
securities market.
Fannie Maes Role in the SmallMultifamily Mark
Fannie Mae also has a history of providing liquidity for sma
rental property loans. Over the past ten years, the company
has developed and refined a dedicated, small-loan platform
to provide consistent liquidity to the small loan market and
financed $60 billion of small loans during that time. In 2007
Fannie Mae expanded its small loan team to include dedica
Fannie Mae is a leader in small
loan financing, providing a key
source of affordable rental housing
for working families close to
transportation and jobs.
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credit and production staff focused solely on the origination,
acquisition, and underwriting of small loans. We have
continued funding the small multifamily loan market through
the current challenging market cycle.
As of midyear 2010, Fannie Mae held a $34 billion book of
30,000 loans on properties with loans of $3 million or less or up
to $5 million in high cost MSAs (18 percent of total multifamily
book) or a $21 billion book of 23,500 loans on five- to 50-
unit properties (12 percent of multifamily book). Roughly 86
percent of Fannie Maes 2009 small loan book of business was
affordable to families at or below 100% area median income
and met the definition of affordable housing set forth by the
U.S. Department of Housing and Urban Development (HUD).
Fannie Maes 2010 small multifamily loan acquisitions of $2.4
billion were comparable with 2009 acquisitions of $2.2 billion.
The fragmented and disparate nature of the small multifamily
rental housing financing market poses challenges to how the
company can expand its support for this market segment in a
significant way. However, Fannie Mae remains committed to
supporting this critical housing segment.
FANNIE MAE & SMALL MULTIFAMIL
LOANS
This paper describes the unique nature of the small
multifamily market, the challenges of financing loans f
these properties, and Fannie Maes role and efforts to
support this critical source of affordable housing.
What role has Fannie Mae played
in the small loan market?
Fannie Mae aims to provide liquidity to the multifamily
housing sector in every market, every day. As a result, Fann
Maes experience, particularly in serving many of the most
challenging segments of the multifamily market, can help
inform the broader discussion about our countrys housing
finance needs.
Fannie Maes involvement in the multifamily market began
1938 as part of the New Deal when the federal government
decided to create its own mortgage association. The
purpose was to facilitate the construction and financing of
economically sound rental and for-sale housing by making
direct loans secured by first mortgages insured by the Fede
Housing Administration (FHA).
Over time Fannie Maes mission was redirected to a
secondary market role that included the authority to
purchase mortgages on multifamily rental housing and
those with conventional financing. Fannie Mae created
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a business division dedicated to purchasing multifamily
loans in 1984 and since that time, has provided liquidity
to the multifamily market for loans of all amounts.
What is a small loan in the multifamily market?
In general, the market defines small loans in two ways:
1. Unit Count which is defined as loans to apartment
buildings with five to 50 units
2. Principal Balancewhich is defined as apartment building
loans with principal balances of $3 million or less in most
markets, or up to $5 million in high cost MSAs.
Fannie Mae uses the principal balance definition, referring
to small loans as loans of $3 million or less nationwide and
$5 million or less in high cost markets like New York City and
Los Angeles. Fannie Mae believes using the principal balance
to define small loans is a more prudent way to address risk
since it allows for easier benchmarking between small and
non-small loan performance within its portfolio. Additionally,
defining small loans based on principal balance allows for
meaningful adjustments for high-cost urban areas where there
are a significant concentration of small multifamily properties.
Note: A small loan is not always synonymous with a small propert y.
Limiting the definition of small loans to properties with five to 50 units
results in the exclusion of larger subsidized affordable multifamily
properties. These larger, subsidized properties also generally benefit
from the low income housing tax credit (LIHTC) which offers below
market rents to qualified tenants and requires less debt as a result of the
subsidies they receive.
How has Fannie Mae participated in the small lo
lending market?
Fannie Mae has distinguished itself among the national
financing sources and, as the Federal Housing Finance
Agency (FHFA) recognized in its proposed 2010 Housing
Goals Rule among the GSEs, for consistently providing
dedicated resources and products to the small loan lending
market. Fannie Mae has a division dedicated to purchasing
mortgages on smallmultifamily properties. (FHFA, Final 20
Enterprise Housing Goals Report) Highlights of Fannie Mae
conventional and small loan lending activity include:
1938:Fannie Mae is chartered with specific authority
to facilitate the construction and financing of
economically sound rental housing projects.
1985:Fannie Mae begins purchasing pools
of seasoned small multifamily loans.
1988:Fannie Mae starts the Delegated Underwriting a
Servicing (DUS) model where a network of approved
lenders originate, sell, and service individual loans (bot
small and large) to Fannie Mae; this is known as flow
delivery. The DUS model relies on sharing the risk of los
with lenders to support the delegated underwriting
and align the interests of Fannie Mae and lenders.
1998: Fannie Mae begins to accept small loan
flow deliveries from non-DUS lenders.
2000:Fannie Mae adopts a 5-50 unit count flow
execution that is available to all lenders. This execution
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is adopted to align with the HUD housing goal
requirement and is the first attempt to streamline
the DUS underwriting guidelines for small loans.
2001:Fannie Mae changes the definition for its small
loan platform to focus on loans with original principal
balances of $3 million or less ($5 million in certain
high-cost areas) rather than a unit count approach. The
product is rebranded 3MaxExpress and is a targeted
attempt to address the needs of lenders and borrowers
by further streamlining the underwriting guide for
small loans with separate underwriting parameters.
2007: Fannie Mae expands its support for small
multifamily loans with a larger, dedicated production
and credit team. Fannie Mae includes a separate credit
underwriting chapter in the DUS selling and servicing
guide and, for the first time, incorporates more simplified
asset management and servicing functions for small loans.
FANNIE MAE HAS A DEDICATED SMALL LOAN TEAM.
The company has historically maintained dedicated
expertise and products for specialty lending areas like
small loans and subsidized affordable housing. For more
than 10 years, Fannie Mae has developed and refined a
dedicated, small loan platform to consistently provide
liquidity to the small loan market. Fannie Mae has financed
$60 billion of small loans over the past 10 years, and
continues to provide liquidity to the small loan market
during this difficult market cycle. In 2007, Fannie Mae
expanded its small loan team to include 10 dedicated credi
and production staff focused solely on the origination,
acquisition, and underwriting of small loans nationwide.
FANNIE MAE OFFERS DEDICATED PRODUCTS.The
company consistently provides liquidity to the small loan
market through two primary products:
1. Flow Business: Fannie Mae purchases individual loans
originated by approved mortgage lenders who have
delegated authority to sell loans to Fannie Mae which th
lenders have underwritten and originated. These loans
are underwritten and serviced by the lenders according
specific, published guidelines and the lenders retain a r
position in these loans through a loss sharing agreemen
with Fannie Mae. Delegated Underwriting and Servicing
also known as DUS, is the primary platform through wh
Fannie Mae provides liquidity to the multifamily market
Within the DUS program guide, there is a dedicated
underwriting and servicing standard for small loans.
2. Pool Financing:Fannie Mae purchases pools of season
multifamily loans from DUS and non-DUS financial
institutions that originate and hold these loans on
their books. By purchasing these loans in bulk, Fannie
Mae provides a source of liquidity which enables these
financial institutions to make new loans. The loans
purchased by Fannie Mae in these seasoned pools hav
traditionally been composed mostly, but not exclusive
of small loans.
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FANNIE MAE PROVIDES CONSISTENT PRODUCTION.
The company uses prudent underwriting standards and loss
sharing with DUS lenders to acquire small loans. Additionally,
Fannie Mae requires market acceptable structures that allow
the loans to be securitized, in accordance with Fannie Maes
goal to maintain a liquid portfolio. This, in turn, enables Fannie
Mae to continue providing liquidity to the small loan market.
Flow volume has consistently averaged approximately $2.5
billion per year over the last 10 years, providing reliable
liquidity to the market. Pool financing, on the other hand,
has historically fluctuated depending on the level of small
loan activity among financial institutions. Fannie Mae has
focused more heavily on seasoned pool activity in years wh
additional volume was needed to support the corporate
housing goals needs as seen in 2003 and 2007. The followin
table shows that, regardless of the definition used (unit cou
or principal balance), Fannie Mae plays a significant role in t
small loan market.
SUMMARY OF MULTIFAMILY ACQUISITIONS
5 50 UNITS DEFINITION VS. $3MM $5MM HIGH COST PRINCIPAL BALANCE DEFINITION
YEAR Data DUS Pools Total % Total DUS Pools Total % Total Total AQSN
Loan Count 186 53 239 17% 379 68 447 32% 1,43
UPB ($M) $231 $84 $315 3% $676 $100 $776 7% $11,20
Loan Count 322 1,824 2,146 46% 703 2,186 2,889 62% 4,69
UPB ($M) $605 $718 $1,323 7% $1,638 $1,577 $3,215 17% $19,92
Loan Count 227 5,397 5,624 73% 579 5,763 6,342 82% 7,69
UPB ($M) $413 $2,893 $3,306 17% $1,354 $3,706 $5,061 26% $19,38
Loan Count 301 14,530 14,831 80% 632 15,875 16,507 89% 18,46UPB ($M) $591 $10,485 $11,075 33% $1,428 $13,201 $14,628 44% $33,28
Loan Count 335 2,128 2,463 56% 543 2,505 3,048 69% 4,43
UPB ($M) $1,660 $2,018 $3,678 20% $1,148 $2,917 $4,065 22% $18,79
Loan Count 386 6,201 6,587 75% 657 6,524 7,181 82% 8,74
UPB ($M) $1,289 $3,806 $5,095 22% $1,314 $4,546 $5,859 25% $23,4
Loan Count 558 3,101 3,659 64% 832 3,428 4,260 74% 5,75
UPB ($M) $1,207 $2,485 $3,692 17% $1,583 $3,217 $4,801 22% $22,30
Loan Count 807 10,387 11,194 78% 1,059 11,349 12,408 86% 14,40
UPB ($M) $2,142 $7,169 $9,311 20% $2,044 $9,201 $11,244 24% $46,72
Loan Count 737 2,939 3,676 54% 1,025 3,503 4,528 67% 6,77
UPB ($M) $2,684 $3,380 $6,063 17% $2,157 $4,553 $6,710 19% $34,67
Loan Count 588 230 818 33% 886 335 1,221 49% 2,47
UPB ($M) $1,068 $327 $1,395 7% $1,671 $581 $2,252 11% $19,59
Loan Count 458 87 545 36% 684 131 815 53% 1,53
UPB ($M) $856 $98 $953 9% $1,413 $217 $1,630 16% $10,32
5 - 50 Unit Definiti on
2004
2000
2001
2002
2003
Principal Balance Definiti on
2005
2006
2007
2008
2009
YTD 9/2010
BOOK Data DUS Pools Total % Total DUS Pools Total % Total Total Book1
Loan Count 4,277 19,220 23,497 56% 7,301 22,519 29,820 70% 42,30
UPB ($M) $7,524 $13,931 $21,456 12% $13,945 $19,738 $33,683 18% $186,14
Principal Balance Definiti on
9/2010 Book
5 - 50 Unit Definit ion
Note: Pools also include non-DUS negotiated contracts.1 Excludes Credit Enhancement Bonds Adjustments
SUMMARY OF MULTIFAMILY ACQUISITIONS
5 50 UNITS DEFINITION VS. $3MM $5MM HIGH COST PRINCIPAL BALANCE DEFINITION
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WHAT IS UNIQUE ABOUT THE SMALL LOAN MARKET?
According to the Mortgage Bankers Association (MBA)
2009 Survey on Multifamily Lending, small loans comprised
approximately 27% of the total multifamily market by dollar
volume and 81% by number of loans. Based on Fannie Maes
$2.2 billion of small loan flow production and the MBA data,
Fannie Maes estimated market share for small loans in 2009
was 15%.
Fragmented Market:Due to their relative size, small loans
constituted about a quarter of the total multifamily dollar
volume in 2009, which equaled more than three quarters
of the number of loans originated. According to the same
MBA data, over 2,600 financial institutions financed 16,751
small loans. This means that the average financial institution
originating small loans in 2009 originated roughly six small
loans of approximately $847,000 each or an aggregate of $5.5
million in total small loan volume.
By contrast, loans over $3 million (non-small loans) were
originated by only 122 financial institutions. Those institutions
originated an average of 32 non-small loans with an averag
balance of $10 million each or an aggregate of $314 million
total non-small loan volume.
One conclusion from these statistics is that non-small loans
appear to be a core business for the institutions originating
them, while small loans appear to be a more fragmented,
complementary business that may support other relationsh
businesses participated in by these institutions.
More recent data from the Federal Financial Institution
Examination Council (FFIEC) supports this view. FFIECs June
2010 data indicates that among FDIC-insured banks and
thrifts, the top five institutions with multifamily loan balanc
accounted for 35% of total multifamily debt outstanding,
while the remaining 65% of multifamily debt outstanding w
spread among almost 6,000 FDIC-insured institutions.
The impact of such a fragmented small loan lender market
that small loans are more complicated and more expensive
to originate and underwrite than conventional non-small
Source: Mortgage Bankers Association
Average Firm Loan Size# of
Firms # of LoansVolume
($millions)Average LoanSize ($mill ions)
Average Loansper Firm
$1 million or less 2,124 11,271 $5,820 $0.5 5
$1 million to $3 million 479 5,480 $8,373 $1.5 11
$3 million to $10 million 97 2,577 $16,121 $6.3 27
Greater than $10 million 25 1,350 $22,178 $16.4 54
Total 2,725 20,678 $52,492 $2.5 $7.6
2009 SURVEY ON MULTIFAMILY LENDING
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multifamily loans. The data indicates that a broad cross
section of small loan originations are made by small local and
regional financial institutions often doing only a handful of
transactions annually in support of local lending relationships.
This characteristic creates a unique challenge for Fannie Mae,
which operates exclusively as a secondary market liquidity
provider with relatively few dedicated origination partners
(DUS lenders).
The targeted geographic focus of these local lending
institutions make them uniquely qualified to underwrite
and lend in these markets. As a result, expanding small loan
originations beyond current DUS flow would likely require
Fannie Mae to develop hundreds of specialty small loan
relationships with local and regional institutions.
With a loan origination platform based on shared loss, Fannie
Mae is limited in its ability to expand beyond its current
origination relationships. While Fannie Maes small loan
team has focused on expanding its small loan relationships,
local and regional financial institutions active in the busine
are traditional buy-and-hold banks and have historically
been unwilling or unable to participate in a loss-sharing
arrangement.
Fragmentation within the small loan origination network al
contributes to a more challenging economic cost structure
In general, since the cost to originate, underwrite, and servi
a multifamily loan does not vary significantly with loan size
small loans offer little in the way of economies of scale to
dedicated multifamily originators. As a result, originators
are less likely to focus on small loans. In addition, as a
secondary market mortgage participant, Fannie Mae does n
provide non-housing loan products. Contrastingly, financia
institutions that participate in the small loan market also ha
multiple product offerings that provide multiple opportuni
to touch their small loan customer and earn fees. This allow
them to use small loan lending in combination with the oth
products they offer, such as business lines, car loans, and
residential mortgages.
Risk Sharing and Financial Strength:The cornerstone
of Fannie Maes multifamily platform is the loss sharing
relationship with the lenders who originate, sell, and servic
loans. By committing to share in potential loan losses, lende
are motivated to prudently underwrite and service loans
delivered to Fannie Mae. This heightened responsibility and
liability on the part of the DUS lenders ultimately benefits
Fannie Maes Multifamily platform of
loss sharing with lenders, benefits
investors, owners, and tenants.
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investors, owner/operators, and tenants by ensuring more
sustainable multifamily housing. However, for Fannie Mae
to accept shared loss with a DUS lender, that lender must
demonstrate sufficient organizational and financial knowledge
in the form of infrastructure and capital reserves to make
good on those loss-sharing obligations.
Fannie Mae maintains strict financial and organizational
requirements to qualify for and maintain DUS selling and
servicing authority. In many cases, the minimum DUS capital
and infrastructure requirements dissuade or disqualify local
and regional lenders from participating in DUS. While Fannie
Mae could choose to lower its counterparty credit standards
or not require loss sharing at all to expand its origination
platform, our experience has shown us that maintaining
delegation and enforcing minimum capital standards is
prudent and commercially reasonable.
To support the small loan lending market in the past, Fannie
Mae had selectively entered into lending relationships with
small loan lenders without loss sharing. Our experience with
that showed us that the performance of these loans was
generally worse and asset management by the servicer was
weaker because the lender did not have skin in the game.
Based on these mixed results and the success of loss sharing
over the last 20 years, Fannie Mae now requires all small loan
lenders to participate in loss sharing with Fannie Mae. This
limits the range of lenders who are willing and eligible to w
with Fannie Mae, but supports sound and responsible lend
Small Loan Borrowers:Having financed over $60 billion o
small loans over the last 10 years, our experience has led us
the conclusion that the small loan borrower is fundamenta
different than a conventional or non-small loan borrower
and our partners generally agree.
According to one of the largest multifamily real estate
brokerage firms in New York City, the small loan borrower
generally a small business owner, who has a small portfolio
of multifamily real estate, typically a local or regional owne
operator that is not as financially savvy or as sophisticated
in the commercial real estate market, and may not have the
financial strength of a large traditional multifamily borrowe
Many borrowers have additional jobs and sources of incom
and they or their relatives often live in the properties.
Based on past experience, and the experience of our
partners, Fannie Mae has concluded that small loan
borrowers have unique characteristics. First, small loan
borrowers often do not employ professional property
management, but choose to maintain and manage
properties themselves because smaller properties may not
support the cost of third party management. However,
borrowers may take on this responsibility without any
significant experience or expertise. Looking at Fannie Mae
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acquisitions through September 2010, only 57% of small loan
borrowers employed professional property management
compared to 85% for non-small loan borrowers.
Second, small loan borrowers are more like single family
borrowers than traditional multifamily borrowers. Unlike larger
multifamily loans that are driven almost exclusively by cash
flow, Fannie Mae has observed, through analysis of its own
small loan delinquencies, that a small loan borrowers ability
to repay is driven by the strength of the property cash flow, as
well as the borrowers own financial strength and repayment
history much like a single family loan. In fact, Fannie Mae
has observed that a majority of small loan delinquencies are
correlated to poor borrower financial strength and experience
rather than poorly performing properties or slumping markets.
This dynamic makes sense when one considers the cash
flow margin for error in a small multifamily property. If a 10-
unit subdivided brownstone property has one vacancy for
more than 30 days, cash flow could drop to the point where
there is not sufficient income to pay the mortgage. In this
case, a small loan borrowers personal worth or self-liquidity
becomes a critical source for debt repayment. By contrast,
one or two vacancies for more than 30 days in a 100-unit low
rise apartment would not significantly impair cash flow to
the point that debt repayment is at risk. In support of this
assertion, a recent examination of Fannie Maes small loan
portfolio indicated that 64% of all small loan delinquencie
were directly related to borrower credit issues.
Underwrite the Borrower and the Property:Given the
importance of underwriting both the borrower and the
property in a small loan transaction, Fannie Mae requires
supplemental information regarding the borrower that
it may not typically require for a non-small DUS loan,
including credit score (FICO) and unique requirements
around net worth and liquidity. Regional and community
banks often have broad banking relationships with
their small multifamily borrowers, and as such, make
multifamily property loans on the security of the broader
banking relationship, not just the rental property.
In essence, these institutions are relationship lenders,
operating much closer to their borrowers and often having
broader experience with them that allows for a lighter
touch. In a recent survey of several active regional and loca
small loan lenders, Fannie Mae found that looking solely
at the terms for an individual multifamily property loan, its
credit standards and due diligence requirements were mor
conservative across the board. This narrower range of lendi
products and tighter credit approach has limited Fannie Ma
small loan market opportunities. However, we believe this i
prudent approach to credit, especially in light of the delega
nature of the program.
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Given the inherent risks with the typical small loan
borrower, Fannie Mae has substantially enhanced the
small loan underwriting criteria to address these risks in a
streamlined manner. All Fannie Mae lenders comply with
the same requirements. This allows this product to take a
commoditized approach and has made Fannie Mae more
successful with this market.
Small Loan Products and the Secondary Market:Many
small loan lenders take a buy-and-hold approach to the
business holding small multifamily loans on their balance
sheets in lieu of selling them into the secondary market. In the
1980s, savings and loans and thrifts aggressively penetrated
the small multifamily market. Credit losses that these
institutions experienced in the commercial real estate crisis of
the late 1980s drove many of these small institutions out of the
market. However, several of the larger depositories survived
and continued to consolidate and grow their presence in
small multifamily lending throughout the 1990s and 2000s.
These institutions included Independence Community Bank
(Sovereign Bank) and New York Community Bank in New York,
Washington Mutual and World Savings on the West Coast, and
LaSalle Bank in Chicago.
With the recent mortgage market meltdown, many of
these banks were acquired or consolidated into other
institutions and their small multifamily lending platforms
were reconsidered. However, several remain and are
extremely active in this space. Both Banco Santander, with
the acquisition of Sovereign Bank, and JP Morgan Chase,
with the acquisition of Washington Mutual, continue to
originate and add small multifamily loans to their balance
sheets. These banks like the reliable returns and steady cred
performance of multifamily real estate assets compared
to other commercial lending products. By contrast, while
these banks balance sheet capacity allows them to pursue
a buy-and-hold strategy, Fannie Mae has very limited
balance sheet capacity to hold loans and, in fact, has been
mandated to reduce its existing port folio. This creates a
significant competitive advantage for the largest banks
that Fannie Mae competes with for small loan assets.
So how does Fannie Mae participate in the mark
Given current constraints, Fannie Mae is only able to
participate in lending activities that allow for the securitizat
of the loans into Fannie Mae guaranteed mortgage-backed
securities (MBS) and the sale of those MBS to investors. For
Fannie Mae to securitize loans, they must be in a standardiz
or plain vanilla form that is broadly acceptable to MBS
investors typically a straightforward, 10-year, fixed-rate lo
with standard prepayment term. Without that homogeneit
loans are difficult to securitize and unlikely to attract invest
willing to purchase the security. While this is not an issue fo
conventional or non-small loans, it does present challenges
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MULTIFAMILYMORTGAGEBUSINESS
for the small loan market where commercial banks and small
loan borrowers favor shorter term loan products with non-
traditional MBS terms.
Most financial institutions like to match their asset and liability
profile and, therefore, shorter duration loans align with their
short-term deposit profile. Many community banks and larger
portfolio lenders offer short-term products with flexible loan
terms to small loan borrowers. Flexibility around loan terms,
amortization periods, prepayment options, and periods of
fixed-rate or variable-rate payments are attractive to small
loan borrowers. The prepayment structure may be yield
maintenance, step-down, or based solely on a certain num
of days of interest. The loan term could be 3, 5, 7, or 10 year
And, there could be additional flexibility built into the prod
such as extensions at the borrowers option, the option to
remain in a fixed-rate period, or to convert to a variable rate
of interest. These are terms, however, that Fannie Mae cann
readily offer because of securitization rules and the lack of
investor demand for most of the flexible loan terms.
The variability of terms and condition for small loans is
supported by a Fannie Mae market survey completed in
September 2010 and summarized in the following table.
Source: Market Rate Sheets (as of 9/20/10)
Min / Max Fixed
Lender Loan Amount Products Terms Prepayment
3 2,1
Union Bank of $400K - $5MM Hybrid ARMs 5 3,2,1
Cali fornia 7 4,3,2,1
Date: 8/18/2010 10 5,4,3,2,1
15 5,4,3,2,1,1,1,1
JPM Chase > $1MM Hybrid ARMs 3 3,2,1
Date: 9/13/10 5 5,4,3,2,1
7 5,5,4,4,3,2,1 or YM
10 YM
Capital One > $500K 5 + 5 5 5,4,3,2,1
Date: 9/3/10 7 + 5 7 5,5,5,4,3,2,1
NY Community Bank > $500K 5 + 5 5 5,4,3,2,1
Date: 9/3/10 7 + 5 7 5,5,5,4,3,2,1
10 10 5,5,4,4,3,3,2,2,1,1Dime ofWilliamsburgh > $500K 5 + 5 5 5,4,3,2,1
Date: 9/3/10 7 + 5 7 5,5,5,4,3,2,1
Signature Bank > $500 K 5 + 5 5 5,4,3,2,1Date: 9/3/10 7 + 5 7 5,5,4,4,3,2,1Investors SavingsBank > $500 K 5 + 5 5 5,4,3,2,1
Date: 9/3/10 7 + 5 7 5,5,5,4,3,2,1
10 10 5,5,4,4,3,3,2,2,1,15-year / no
option 5 4.5 YM
Sovereign Portfolio > $500 K 5 + 5 5 4.5 YM
Date: 9/3/105-year / no
option 5 5,4,3,2,17-year / no
option 7 6.5 YM10-year / no
option 10 9.5 YM
SMALL MULTIFAMILY LENDERS COMPARABLE TERMS AND PRODUCTS
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13/22FANNIE MAES ROLE IN THE SMALL MULTIFAMILY LOAN MARKET
Among those surveyed, Union Bank of California is a
west coast bank and JPM Chase lends nationwide with a
concentration on the west coast and New York. The other
banks are based in New York. In general, these lenders
consistently offer hybrid interest rate terms, loan terms less
than 10 years, options to extend loan term, and declining
prepayment schedules. All these features offer borrowers
added flexibility, but largely eliminate these loans from
consideration for securitization.
Fannie Maes most competitive product is the 10-year fixed-
rate balloon with 30-year amortization and 9.5 years of
yield maintenance (which means that the borrower cannot
prepay the loan before 9.5 years without making the investor
whole). Because of the refinance or balloon risk of short-
term products, Fannie Mae has underwriting guidelines such
as interest rate floors and stressed interest rate exit tests to
minimize this risk; as well as pricing and credit structures that
favor longer duration products. There is also a strong MBS
market demand for longer-term products and Fannie Mae is
able to quickly and efficiently securitize these loans.
Securities law restrictions, such as the inability to provide
payment relief for a borrower by modifying loan terms,
except under clearly defined conditions, or the inability
to transfer a recourse loan, can be burdensome to a
borrower looking for flexibility. Portfolio lenders are able
to meet the small loan borrowers desire for flexibility.
Additionally, products offering borrower options, such as
ability to extend a loan term or customize prepayment
premiums, may be ineligible for securitization or may
be expensive or illiquid in the capital markets.
During the Commercial Mortgage-Backed Securities (CMBS
boom of the mid-2000s there were several small loan
securitization programs including LaSalle Bank, Washingto
Mutual, and Sovereign Bank. The loans that were securitize
these programs were long-term products without prepaym
flexibility and were not priced as attractively for borrowers
the lenders portfolio programs. In short, the standard smal
multifamily loan product originated by banks is not easily
securitizable. However, Fannie Mae has identified a segmen
the market where borrowers will accept long-term fixed rat
loans that can be placed into mortgage-backed securities.
Unique Small Loan Market Limits Fannie Maes Role: Ba
on Fannie Maes small loan flow volume of $2.2 billion in 20
Fannie Mae estimates that our small loan market share is 15
Although this is lower than the conventional multifamily lo
market share of 40% in 2009, it is still a relevant volume and
provides much needed liquidity to the market.
Overall, lenders, borrowers, and products are unique in the
multifamily small loan market versus the larger, convention
multifamily loan market. Fannie Mae has embraced these
differences, created a dedicated team, and partnered with t
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14/2214
MULTIFAMILYMORTGAGEBUSINESS
top small loan lenders to offer an effective, fixed-rate product
that many borrowers demand. Fannie Maes participation in
small multifamily loans is valuable but the liquidity we can
provide is limited by the nature of the market.
WHY IS THE SMALL MULTIFAMILY MARKET IMPORTANT
TO FANNIE MAE?
It is important because small loans support affordable
housing. Fannie Mae has chosen a business model that focuses
on supporting the breadth of the rental housing market,
with a particular focus on rental housing for working families.
Unlike other market participants that have moved in and out
of the small loan multifamily space, Fannie Mae has always
considered small multifamily lending an important strategic
business because a preponderance of lower income and
working families live in small multifamily rental properties.
Small multifamily rentals are concentrated in urban areas,
particularly in the northeastern United States and Southern
California, and as such provide affordable housing in close
proximity to transportation and jobs. Small multifamily rentals
also tend to be older properties, with more than half over 30
years old.
The importance of small loans and the affordability they
provide is demonstrated by Fannie Maes small loan book, 86%
of which is affordable to families earning at or below 100%
area median income (AMI).
HOW IS AFFORDABLE DEFINED?
Housing is considered affordable if a household spends
no more than 30% of gross income for rent. However, the
following chart shows a different scenario that households
must routinely spend well over one-third of gross income
to be able to live in a two-bedroom apartment, especially in
high-cost areas.
For example, in Los Angeles, a household earning 50%
of AMI, $34,100, must spend over 57% of income to be
able to afford the typical market rate rent for a two-
bedroom apartment of $1,627. A household earning
$34,100 can afford to spend no more than $853 per
month. Only households earning 80% to 100% of AMI can
comfortably live in the typical market rate apartment.
What is striking in the following comparison is not the
difference in asking rents, but the difference in the estimate
household income needed to afford the corresponding
rental rates. Based on this difference, it seems likely that
many households in these high-cost metro areas are not
actually earning the income needed to afford the two-
bedroom market rate rent apartment, but rather are spend
more than one-third of gross income to pay the rent.
Fannie Mae and Affordable Workforce Housing:These
three metro areas may have higher costs of living on averag
but there are still rental units affordable across the spectrum
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15/22
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16/2216
MULTIFAMILYMORTGAGEBUSINESS
WHAT IS THE CREDIT PERFORMANCE OF SMALL
LOANS?
Fannie Mae Small Loan Book of Business: Fannie Mae has
a long history of providing liquidity to the multifamily small
loan market as demonstrated by the size of its current book of
business. As of June 30, 2010, Fannie Maes total multifamily
book of business was approximately $185 billion comprised of
over 42,000 apartment loans. The small loan book of business
for that same period totaled approximately $34 billion (18%
of total book) comprised of approximately 30,000 individual
small loans (71% of total loan count).
Small Loan Geography:Small multifamily loans tend to be
concentrated in large metropolitan areas, which traditional
have low home ownership rates and high demand for
affordable rental housing. According to PPR (Property and
Portfolio Research) data, New York City has the largest
concentration of small multifamily buildings in the US. With
the metropolitan statistical area (MSA) there are an estimat
2,000,000 small multifamily units. This is not surprising for a
city with a home ownership rate of approximately 30%.
Among other large cities, the Los Angeles MSA has
approximately 1,080,000 small multifamily units and the
Chicago MSA has approximately 632,400. From a loan
FANNIE MAES BOOK OF BUSINESS UNITS IN SPECIFIED MARKETS
SEGMENTED BY AFFORDABILITY TO AREA MEDIAN INCOME AMI
Source: Fannie Mae, December 2009 Book of Business
6,363 10,987 43,979
15,088
31,385
61,510
38,113
83,308
110,527
29,423
105,076
96,042
15,453
112,244 141,755
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%Total Units:
San Francisco-Oakland-Fremont, CA Los Angeles-Long Beach-Santa Ana, CA New York-Northern New Jersey-Long Island,
NY-NJ-PA
Units below 50% of AMI 50% of AMI to 60% of AMI 60% of AMI to 80% of AMI
80% of AMI to 100% AMI Units above 100
104,440 343,000 453,813
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17/22FANNIE MAES ROLE IN THE SMALL MULTIFAMILY LOAN MARKET
production point of view, Los Angeles recorded the highest
dollar volume of small multifamily loans financed in 2008, with
New York and Chicago close behind.
Following geographic market trends detailed to the right,
Fannie Maes multifamily small loan book of business is also
highly concentrated in the Los Angeles and New York MSAs.
While this type of geographic concentration would typically
create concern over diversity risk in the portfolio, multifamily
small loan real estate has historically performed well in these
MSAs. The chart shows the top five MSAs where the small loan
book of business is distributed.
Small Loan Credit Statistics and Performance:Despite
relatively lower loan leverage in the small loan book, debt
service coverage (DSCR) a relative measure of the amount
of cash flow needed to support debt service payments for
the small loan book slightly lags the total multifamily book.
This relative under performance is attributable to the unique
cash flow challenges smaller properties face, like the more
dramatic effect on cash flow that vacancies have on small loan
performance.
Fannie Maes small loan serious delinquencies (SDQ) loan
that are 60 days past due rose to 1.01% in the second qua
of 2010. However, if you disaggregate the seasoned pool
business from the DUS small loan business the two busine
segments that make up Fannie Mae small loan lending th
seasoned pool book of business experienced an SDQ rate
of 1.44% compared to a more favorable 0.73% SDQ rate for
the DUS flow small loan portfolio. These compare relatively
favorably to an SDQ rate for the total multifamily book of
0.80% in the same period.
FANNIE MAE SMALL MULTIFAMILY
BOB MARKET GEOGRAPHY
AS OF JUNE 30, 2010
Source: Fannie Mae
Los Angeles
27%
New York22%
Other39%
Chicago3%
San Francisco5%
Seattle
4%
Small Loans
Non-SmallLoans
TotalMultifamil
WAVG Loan to Value (LTV) at Origination 58% 68% 67%
WAVG Debt Service Coverage (DSCR) at Origination 1.54 1.37 1.40
Data as of June 30, 2010
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MULTIFAMILYMORTGAGEBUSINESS
Despite slightly less favorable credit performance in the Fannie
Mae small loan book compared to the total multifamily book,
Fannie Maes small loans demonstrate better per formance
than the overall multifamily performance of loans held by
other lenders active in the small loan space. For example, SDQ
rates for bank portfolios through the second quarter of 2010
were approximately 3.88%. Since these rates are based on
a 90-day past due standard compared to Fannie Maes 60-
day past due standard, they can be considered conservative.
Fannie Mae multifamily also outperformed the CMBS market,
which registered 13.18% delinquency through Q2 2010.
Fannie Mae attributes this strong performance compared to
its bank and CMBS competition to be attributable directly
to standardized underwriting and credit guidelines for small
multifamily loans and the strength of credit delegation and
shared loss provided by the DUS lenders.
Property Condition and Small Multifamily Loans:In
addition to the increased borrower risks, property conditio
is a significant factor that affects small loan performance.
More than half of small rental buildings in the US are over 3
years old and much of the inventory is in need of substantia
repair. Approximately 57% of the Fannie Mae small loan bo
was built before 1970 and faces many of the same property
condition challenges as the rest of the market.
Many individual small rental owners do not have the
resources to preserve and improve small rental properties.
However, without sufficient capital to maintain their
Source: Federal Financial Institution Examination Council as of June 30, 2010
Name
Total
Assets
Loans Secured by 5
or more family units
SDQ Rate
(Past 90 days
1 JPMorgan Chase Bank, National Association 1,568,093,000$ 33,236,000$ 3.82
2 New York Community Bank 39,788,713$ 16,496,224$ 2.30
3 Wells Fargo Bank, National Association 1,073,280,000$ 10,061,000$ 4.03
4 Bank of America, National Association 1,518,957,843$ 8,252,307$ 2.84
5 Citibank, National Association 1,157,877,000$ 7,251,000$ 5.97
6 Sovereign Bank 72,580,147$ 5,497,587$ 5.04
7 Capital One, National Association 123,523,320$ 5,036,669$ 0.69
8 Regions Bank 131,010,846$ 4,169,070$ 7.42
9 U.S. Bank National Association 278,464,643$ 3,756,228$ 5.07
10 PNC Bank, National Association 251,075,292$ 2,728,760$ 13.47
11 OneWest Bank, FSB 27,898,129$ 2,476,562$ 2.26
12 The Dime Svgs. Bank of Williamsburgh 4,134,786$ 2,473,551$ 0.47
13 M&I Marshall and Ilsley Bank 47,530,839$ 2,442,381$ 1.93
14 Astoria Federal Savings and Loan Association 19,639,969$ 2,409,258$ 2.34
15 Union Bank, National Association 83,842,126$ 2,335,408$ 6.27
FDIC INSURED FINANCIAL INSTITUTIONS
LARGEST HOLDERS OF MULTIFAMILY DEBT $000S
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19/22FANNIE MAES ROLE IN THE SMALL MULTIFAMILY LOAN MARKET
buildings the properties deteriorate, tenants are exposed
to challenging living conditions, and vacancies increase
leading to curtailed cash flow and a higher incidence of
delinquency. The property condition of the Fannie Mae
small loan book is slightly worse than the non-small loan
book. A property condition rating of 1 is the strongest,
a rating of 5 is the weakest, so the lower the rating the
worse the condition. The weighted average property
condition for small loans is 1.86 versus 1.70 for non-small.
Due to the challenges related to property condition for small
loans, Fannie Mae monitors this portfolio closely to assure
sustainable and safe housing for tenants. Fannie Mae also has
strict guidelines related to property condition at origination
to assure that as small loans are delivered, they adhere to this
quality for tenants and to limit deferred maintenance issues.
Consistent with Fannie Maes portfolio performance,
according to data from University Neighborhood Program,
UNHP, a NYC nonprofit that tracks property code violations in
the five boroughs, smaller properties ( 50 units) have higher
incidences of property code violations than larger properties
with more than 50 units. A Building Indicator Project Score
(BIP) of 800 or higher is considered to be a significant code
violation issue. And, as the table shows, properties with less
than 50 units have higher average of violations per unit, 1.4
vs. 0.32 for larger properties.
Based on these concerns, Fannie Mae believes it is prudent
to apply a strict approach to property condition for small
loans. Fannie Maes approach is more conservative than oth
portfolio lenders. Using the UNHP data, 5.7% of all properti
in the NYC market have BIP scores > 800 while only 3.17%
of Fannie Maes Book of Business has a BIP score > 800. This
shows that Fannie Mae takes a more prudent underwriting
approach to property condition which helps to ensure the
safety of tenants.
Fannie Mae has also found that the credit performance of o
small loan book, while not as strong as the larger loan book
is still good relative to the market. The fact that Fannie Mae
has a dedicated credit team focused on this unique produc
has served the company well. Although Fannie Maes credit
guidelines are often stricter than portfolio lenders, Fannie
Mae believes this is a prudent approach and is consistently
Source: University Neighborhood Program Code Violation Data for Properties in the NYC Market
NYC MarketBuilding Size
TotalBuildings
Units800+ BIP
Score800+ BIP %
Average TotalViolations per
Unit
50 Units 8,847 1,212,411 396 4.50% 0.32
Totals 57,857 1,948,547 3,300 5.70% 0.73
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MULTIFAMILYMORTGAGEBUSINESS
calibrating issues relating to markets, property condition, and
borrowers in the small loan space.
SMALL LOAN PROFITABILITY
A significant challenge associated with managing the small
multifamily loan business is the high fixed costs at origination
and sustained costs after closing for servicing, asset
management, and special asset management for both Fannie
Mae and the lenders. Both the lender and Fannie Mae work to
streamline these costs and create economies of scale in order
to sustain a profitable ongoing business.
Fannie Mae has streamlined the upfront underwriting
requirements to make these loans less expensive for lenders
to originate. While the asset management and servicing
costs are less for a $2 million loan than for a larger loan, fixed
costs associated with managing these small loans cause the
profitability to be greater for the larger loans. Additionally, loss
severity for small loans is higher than for larger loans; it takes a
comparable level of effort and expense to work out a $2 million
dollar loan in foreclosure as it does a $20 million dollar loan, thus
driving up the percentage amount lost on each small loan.
Through our current small loan strategy and pricing, Fannie
Mae has established a model where both the lenders and
Fannie Mae are targeting profitable small loan business. We
are constantly monitoring this profitability to assure that we
are structured and priced effectively.
Lender Small Loan Profitability:Thin margins and limited
profitability for the lenders prove challenging in the small loa
market. Lender income is based on a percentage of the loan
amount via origination fees, trade premiums, and servicing
fees. The smaller the loan size, the harder it is to be profitable
Many lenders have created economies of scale that allow the
to enter into this business. Based upon an informal survey
of Fannie Maes small loan lenders we have summarized the
origination and servicing cost and profitability to illustrate so
of the challenges associated with managing this business.
Origination Costs:The cost to originate and service a sma
loan is high in relation to the loan amount and generated
revenue. As shown in the sample profit and loss statement
(P&L), the expense ratio for a $1 million loan is roughly
Sample P&LAssumed Deal Terms
Deal TermsLoan Amount 1,000,000 3,000,000 10,000
Origination Fee 1.0% 1.0% 1
Loan Term 10 10
Purchase Price 103.50 102.00 10
Income Analysis *
Premium (net) 35,000 60,000 200
Origination Fee 10,000 30,000 100
Ancillary Income (0.35%) 3,500 10,500 35
Borrower Reimbursed DD Expenses N/A N/A 27
Application Fee 5,000 5,000 12
TOTAL REVENUE $53,500 $105,500 $374
Due Diligence Expenses ** 9,000 9,000 39
Salaries and Incentives 32,700 32,700 125
Origination Fee 10,000 30,000 100
Capital Reserve 1,160 3,480 11
Operating Expenses 22,250 22,250 70
TOTAL EXPENSES 75,110 97,430 346
NOI (21,610) 8,070 28
* Average income and expense data above provided by a DUS
lender currently active in small balance lending for Fannie Mae.
** See the following chart for details
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21/22FANNIE MAES ROLE IN THE SMALL MULTIFAMILY LOAN MARKET
7.5% vs. 3.2% for a $3 million loan and 3.5% for a $10 million
loan. As shown in the P&L chart, Fannie Mae has streamlined
the origination costs to make small loans less expensive to
originate and therefore profitable for lenders.
The chart to the right is a sample of typical application fees
and due diligence costs associated with underwriting a $1
million small loan and a $10 million loan.
Servicing Costs:On average, the cost to asset manage
and service a small loan is lower than that of a larger loan.
According to a DUS lender experienced in small balance
lending, the average cost to service a $1 million loan is
roughly $2,200 while the cost to service a $10 million loan is
approximately $3,600. However, the loss severity for small
loans is higher than for larger loans. It takes the same level
of effort and expense to work out a $1 million dollar loan
in foreclosure as it does a $10
million dollar loan, thus driving loss
severities up for the small loans.
Assuming the same loan amount terms, the Sample Asset
Managment/Servicing chart highlights the net present valu
breakeven cost of servicing fee income for the expenses of
servicing a loan. The breakeven servicing fee to service a $1
million loan is 25 basis points annually versus 8 bps and 4 b
for $3 million and $10 million loans, respectively. Therefore,
sustaining profitability for servicing smaller loans is much
more challenging.
Small Loan DUS Loan$1MM $10MM
DUE DILIGENCE COSTS:
Appraisal: $2,500 $5,50
PNA: $1,200 $2,00
Phase 1: $0 $2,00
Seismic $0
Legal & Docs:* $4,250 $29,35
Title Insurance** $0 $
Other (credit score): $50 $5
Processing: $1,000 $1,00
TOTAL: $9,000 $39,90* Legal for DUS loans includes lender legal fees, UCC Searches of $850,Survey of $4,000 to $10,000 and borrower legal fees of $10,000, whichincludes opinion letter.** Title insurance costs for small loans range from $4,000 to $11,000 andare paid by the borrower. This includes UCC Searches which are also paidby the borrower. For large loans the average cost of title is $17,500.
SAMPLE ASSET MANAGEMENT / SERVICING
Assumed Deal Terms
Deal TermsLoan Amount 1,000,000 3,000,000 10,000,0
S-Fee to lender (per pricing memo) 0.60 bps 0.55 bps 0.55 b
Estimated per loan cost to service $2,200 $2,200 $3,6
Loan Term / Amortization 10 / 30 10 / 30 10 /
Net Present Value (NPV)Servicing Fee Income / Expenses
Minimum servicing fee requiredto break even 0.25 bps 0.08 bps 0.04 bNPV servicing income based on breakeven s-fee $19,786 $18,966 $31,6
NPV Servicing Expenses $19,274 $19,274 $31,5
Profit / (Loss) $512 ($308) $
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22/2222
MULTIFAMILYMORTGAGEBUSINESS
FANNIE MAE HAS A RELEVANT,
FOCUSED ROLE IN SMALL LOANS
Fannie Maes 2010 small multifamily loan acquisitions are
expected to be comparable with 2009 acquisitions of $2.2
billion. The company estimates this will be consistent with our
2009 small loan market share of 15%. This makes Fannie Mae
one of the largest providers of financing for small multifamily
loans in the country and one of the only secondary market
participants buying small loans. While several of the large bank
portfolio lenders, such as JP Morgan Chase and Sovereign
Bank, have entered and exited the small multifamily market in
the past few years, Fannie Mae has been a consistent source
of liquidity with a $34 billion book of 30,000 loans on small
multifamily properties as of midyear 2010.
Fannie Mae continues to have a dedicated team of people
committed to providing liquidity for strong, small loan
properties and focused on borrowers who want long-term,
fixed-rate financing. With over 25 years of history in small
multifamily lending, Fannie Mae plans to maintain this
leadership role by supporting our DUS lenders and non-DUS
small loan lenders.
CONTACTS
For more information about Fannie Mae small multifamily
loans, please visit eFannieMae.com. For a list of our small
loan lenders, https://www.eFannieMae.com/mf/refmaterials
lenderinfo/smloanlenders.jsp.
Opinions, analyses, estimates, forecasts and other views of Fannie
Maes Multifamily Mortgage Business Economics and Market Research
Group (MRG) included in these materials should not be construed
as indicating Fannie Maes business prospects or expected results,
are based on a number of assumptions, and are subject to change
without notice. How this information affects Fannie Mae will depend
on many factors. Although the MRG bases its opinions, analyses,
estimates, forecasts and other views on information it considers
reliable, it does not guarantee that the information provided in
these materials is accurate, current or suitable for any particular
purpose. Changes in the assumptions or the information underlying
these views could produce materially different results. The analyses,
opinions, estimates, forecasts and other views published by the MRG
represent the views of that group as of the date indicated and do not
necessarily represent the views of Fannie Mae or its management.